Jussi Vimpari, M.Sc. (Tech)

Researcher / Doctoral candidate

Aalto University / Real Estate Business Research Group

Real Options Approach for Valuing Green Certificates

1. Background of the research

2. Option characteristics of green certificates

3. Real options valuation

4. Research methodology, data and results

5. Conclusions

Contents

• Green building certificates as a value measure of sustainability

• DCF analysis is the most common real estate valuation method• Practitioners do not have a consensus how green certificates

affect the parameters used in the DCF

• Findings of the research argue that option pricing theory should be used for valuing green certificates

Background

• Adaptation of option pricing theory to real assets

• Praised for a more superior capability of taking into account uncertainty investments• Aim is to focus sources of uncertainty and create flexibility

(options) to prepare for the uncertainty

• To authors’ knowledge have not been used in valuing green building certificates

Real option valuation

Option characteristics of green building certificates

Option characteristic When to use (real) option valuation

The scope of potential future value of green certificates is very wide. All the way from new industry standard to nothing.

“When there is a contingent investment decision. No other approach can correctly value this type of opportunity.” (Amram and Kulatilaka, 1999)

At the moment, the value of a green certificate has not been proven in practice; thus, it is a unique asset without true comparables.

Uniqueness or presence of comparables (Damodaran, 2002)

The value of a green certificate includes growth options, e.g., if in the future green certified buildings are transacted with a value premium.

“When the values seems to be captured in possibilities for future growth options rather than current cash flow.” (Amram and Kulatilaka, 1999)

• Developed by Collan et al. (2009) for real option valuation• Fuzzy set theory used instead of probability theory

• Real option value is calculated using three valuations, where the “normal” valuation has complete membership and worst and best scenarios have complete non-membership

• Very intuitive and easy to use, can use data from DCF

Fuzzy pay-off method for real option valuation

• Eight industry professionals asked to valuate (10 year DCF) an office building with/without a certificate

• The valuation was carried out for three scenarios for both buildings

• Identified what is the impact of the certificate in property value when market develops in worst, normal, and best scenarios

Research methodology and data

Results

1 2 3 4 5 6 7 80%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

Real Option Value per Property Value (%)

Mean 8.8 %

• Green certificates have several characteristics that makes it well founded to value them as real options

• The uncertainty in green certificates can be numerically analyzed with real options valuation

• One could argue that it is better to analyse the different scenarios of the impact of a certificate rather than trying to include everything into a single valuation

• The real option in this case was the flexibility to adapt into future market conditions because the role of green certificates in the future is uncertain

Conclusions